Internet or
online shopping has grown rapidly in recent years. Low barriers to entry have
allowed a wide range of small specialised retail firms to market their products
on the Internet. At the same time economies of scale have led to a small number
of large Internet retail companies dominating the market for other products.
Explain the existence of these two different
types of online retailers and which market structure best explains the market
behaviour of each of them [10]
From the N2012, H2 A level Economics paper, contributed by WY. Special thanks to WY his excellent economics essay.
This paper argues the monopolistic competitive and oligopolistic market structures are the best models to explain the market behaviours of the two types of online retailers – small specialised retail firms and the small number of large Internet retail companies dominating the market for other products. Retailers are defined as firms which do not manufacture the goods which they sell, but rather only sell the goods produced by manufacturers. There are five characteristics of the abovementioned market structures, namely number of buyers and sellers, type of product sold, level of barriers to entry, price setting ability and information level in the market.
A monopolistic competitive firm refers to a firm that sells a slightly differentiated product, in a market with many buyers and sellers, with relatively low barriers to entry and exit, and imperfect information in the market. Barriers to entry refers to any man-made or natural barriers which are strong enough to prevent new rival firms from competing on an equal basis with existing firms, and prevent these firms from entering or existing the market. There are two main types of barriers to entry, namely artificial and natural barriers to entry. Natural barriers to entry refer to barriers that are intrinsic to the industry, such as economies of scale. Artificial or man-made barriers to entry refer to laws, legislations, patents and other obstacles to entering or existing an industry, and are not intrinsic to the industry itself. Product differentiation can be based on real or imaginary differences. Real differences mean that the product is actually different in terms of its design, composition of materials and substance. Imaginary difference means that the product is perceived to be different due to persuasive advertising, brand and marketing differences, that create a psychological difference. Monopolistic competitive firms are price setters, but have limited price setting ability due to the presence of many competitors in the market selling differentiated but similar products. Small specialised retails firms such as blogshops are relatively easy to establish with minimal start up costs required, and hence have relatively low barriers to entry. This would result in many online retail sellers in the market, each selling slightly differentiated products with many close substitutes. For instance, there exists many online fashion blogshops in Singapore selling apparel such as shirts, pants and dresses.
What economics diagram would you draw here?
According to the diagram, a profit-maximising monopolistic competitive firm would produce at Marginal costs (MC) = Marginal revenue (MR), at price P and output level Q. In the long run, a monopolistic competitive firm earns normal profits. Small specialised retail firms also earn normal profits in the long run. Non-price competition is a strategy whereby a firm tries to distinguish its product or service from others, on the basis of attributes such as design and workmanship. Non-price competition typically involves promotional expenditure such as advertisement, sales staff, sales promotion, coupons, free gifts, marketing, new product development and brand management costs. Although any company can employ a non-price competition strategy, it is most common amongst monopolistic competition and oligopolies. These small specialised retail firms also engage in some form of non-price competition in order to market their products on the Internet. A case in point would be usage of social media such as Instagram, Twitter and Facebook to market and advertise their products. Some online retailers for instance even employ users on the mobile application Instagram to do advertorials and collaborations with them.
An oligopoly refers to a firm that sells either a homogenous or differentiated product, in a market with many buyers but relatively few sellers, each mutually interdependent on each other, with relatively high barriers to entry and exist, and imperfect information in the market. Mutual interdependence means that each of the firms in an oligopolistic industry would take into account each other’s price and non-price competition when making their strategies. This strategic or game theoretic behaviour occurs because firms in such an industry are not competitors, but rather a rival to the other firms. Oligopolies can be collusive or non-collusive, where collusive means that the firms act in a concerted manner and co-operate with each other, while non-collusive means that each oligopoly operates on its own accord, taking care to strategically consider their rival’s likely behaviour. This essay would focus on non-collusive oligopolies for collusive oligopolies often form cartels and behave just like a monopoly. Large Internet retail companies such as Amazon, Google and Alibaba have relatively high barriers to entry, especially natural barriers to entry such as economies of scale. Google for instance, has high artificial barriers to entry as it requires substantial financial capital and logistical effort to set up and maintain a global Internet search engine. As such, online industries such as e-commerce are dominated by a few firms including Amazon, Alibaba and eBay, which offer a myriad of products.
What economics diagram would you draw here?
According to the diagram, non-collusive oligopolies produce at the profit-maximising point MC=MR, at price P and output level Q. Due to high barriers to entry and market power of the firms, oligopolies earn supernormal profits in the long run. Therefore, oligopolies tend to engage in costly forms of non-price competition, such as celebrity endorsements, placing large and prominent advertisements on billboards, newspapers, popular magazines and websites, as well as advertising frequently on television. This is because they have very large output to spread out such high advertising costs, and thus are able to reap economies of scale, unlike monopolistic competitive firms, which have considerably lower levels of output. Amazon for instance, are able to finance huge discount sales such as the Black Friday sales, where items are discounted up to eighty percent, to attract consumers.
In conclusion, the market behaviours of the small specialised retail firms are best explained using the monopolistic competitive market structure as both of these firms have low barriers to entry. On the other hand, the market behaviours of the small number of large Internet retail companies dominating the market for other products are best represented by the oligopoly model, where high natural barriers to entry such as economies of scale exist.
JC Economics Essays - Contributed by WY, this excellent model economics essay is well-written, clear-cut, and detailed, and it strongly explains both economic theory and examples together. This is a very good economics paper on market structure, and demonstrates a very good understanding of monopolistic competition and oligopoly, especially in a real world context. This economics essay is also very good in its strategic use of diagrams to explain key areas, especially for the behaviour of the market structures. In an H2/ A level economics examination context, this is an excellent sample piece of work.
Special thanks to WY for his hard work and good effort on this economics assignment, as well as for this excellent, high-quality economics essay. Please continue to keep up your good work as a talented and strong economics student.
Thank you all very much for reading and cheers!
